What Are the Pros and Cons of Single Stocks in Your Portfolio?
Stocks, mutual funds, or exchange traded funds (ETFs):What is the best option when you want to invest in the stock market?Is it worth the time and risk to have single stocks in your portfolio, or should you instead select mutual funds or ETFs, which give you exposure to sectors you likewithout the risk of placing all your eggs in one basket?
While there are many factors to consider here—like the amount of time you have to dedicate to investing or your tax planning needs—there is one other theory in investing that comes into play. Modern portfolio theoryfocuses on maximizing your return without adding too much additional risk.
To summarize, modern portfolio theory says that there is a point at which you can combine different investments that minimize risk for the entire portfolio while getting maximum returns.
This occurs because when you combine assets, you are diversifying your unsystematic risk, or the risk related to one specific stock.You get this diversification because you buy stocks that have a low correlation to each other so that when one stock is up, others are down.
Key Takeaways
- Many factors go into considering the efficacy of holding single stocks in your portfolio—like the amount of time you have to dedicate to investing, your tax planning needs, and your experience as an investor.
- Pros for single stocks in portfolios include reduced fees, understanding the taxes owed and paid, and an ability to better know the companies you own.
- Cons include more difficulty diversifying your portfolio, a potential need for more time invested in your portfolio, and a greater responsibility to avoid emotional buying and selling as the market fluctuates.
Understanding the Pros and Cons of Single Stocks in Your Portfolio
When trying to get as much return as you can for the least amount of risk, your number one concern should be diversification. While having low fees and managing your own tax situation is good, it is better to have adequate diversification in your portfolio. If you don't have the funds to make this happen, an ETF or mutual fund is probably better for you—at least until you build up a solid base of stocks.
Pros of Holding Single Stocks
- When buying individual stocks, you see reduced fees. You no longer have to pay the fund company an annual management fee for investing your assets. Instead, you pay a fee when you buy the stock and one when you sell it. The rest of the time there are no additional costs. The longer you hold the stock, the lower your cost of ownership is. Since fees have a big impact on your return, this alone is a good reason to own individual stocks. (See also: Cost of Newly-Issued Stock.)
- You understand what you own when you pick out the stock. You have complete control of what you are invested in, and when you make that investment.
- It is easier to manage the taxes on your individual stocks. You are in charge of when you sell, so you control the timing of taking your gains or losses. When you invest in a mutual fund, the fund determines when to take the gains or losses and you are assigned your portion of gains. This is true even if you just bought into the fund at the end of the year.
Cons of Holding Single Stocks
- It is harder to achieve diversification. Depending on what study you are looking at, you must own between 20 and 100 stocks to achieve adequate diversification. Going back to portfolio theory, this means more risk with individual stocks unless you own quite a few stocks.
- Achieving this diversification is harder the less money you have. Especially when you start investing, you are subjecting yourself to more risk due to the lack of diversity. (See also: Investing for Safety and Income: Introduction.)
- It requires more time from you to monitor your portfolio. You need to ensure that the companies you've invested in aren'thaving business problems that could wipe out your bet. You also need to monitor industry and economic trends. You're your own portfolio manager, so you must spend the time to ensure you're not holding a bad position.
- You must keep your emotions in check. It becomes easier to sell a loser or buy a hot-tip stock because you can instantly log in and make the trade in minutes. This can increase your fees for trading and can also lock in losses that would have been avoidable by holding something a bitlonger.
FAQs
If you want the control and involvement of choosing which stocks to own, individual stocks may fit your needs. However, if you don't want to be as involved in the investing process, individual stocks may not be appropriate for you.
What percentage of portfolio should be in single stocks? ›
There is no set definition for what makes a concentrated position. When an investment in a single stock represents more than 5% of a portfolio, T. Rowe Price advisors consider it to be worth addressing. Once a holding exceeds 10%, however, it represents a greater risk that requires more immediate planning.
Why not to invest in single stocks? ›
Financial pros like Benz urge investors to build broadly diversified portfolios for a reason: While the overall historical trajectory of the stock market has trended upward, any individual stock has a chance to decline sharply in price and destroy your portfolio's returns.
What is a disadvantage of a single stock? ›
Cons include more difficulty diversifying your portfolio, a potential need for more time invested in your portfolio, and a greater responsibility to avoid emotional buying and selling as the market fluctuates.
What is the ideal number of stocks in a portfolio? ›
Most studies use the fully diversified portfolio as a benchmark and then derive that a portfolio of 20-30 stocks achieves a 'similar' risk profile as the target portfolio.
Do single stocks have a high or low return? ›
Advantages of investing in stocks
A single stock can potentially return a lot more than an ETF, where you receive the weighted average performance of the holdings. Stocks can pay dividends, and over time those dividends can rise, as the top companies increase their payouts.
What is the ideal portfolio mix? ›
If you are a moderate-risk investor, it's best to start with a 60-30-10 or 70-20-10 allocation. Those of you who have a 60-40 allocation can also add a touch of gold to their portfolios for better diversification. If you are conservative, then 50-40-10 or 50-30-20 is a good way to start off on your investment journey.
How much do I need to invest to make $1000 a month? ›
A stock portfolio focused on dividends can generate $1,000 per month or more in perpetual passive income, Mircea Iosif wrote on Medium. “For example, at a 4% dividend yield, you would need a portfolio worth $300,000.
Should a 70 year old be in the stock market? ›
Conventional wisdom holds that when you hit your 70s, you should adjust your investment portfolio so it leans heavily toward low-risk bonds and cash accounts and away from higher-risk stocks and mutual funds. That strategy still has merit, according to many financial advisors.
Is it better to invest in one stock or multiple? ›
The whole purpose of holding multiple stocks in a portfolio is diversification. That means holding enough securities so that a big drop in one won't cause your entire portfolio to take a big hit.
Once you've opened an investment account, you'll need to decide: Do you want to invest in individual stocks included in the S&P 500 or a fund that is representative of most of the index? Investing in an S&P 500 fund can instantly diversify your portfolio and is generally considered less risky.
What risk do you face when you buy a single stock? ›
Company-specific risk: The performance of a single company's stock can be influenced by a wide range of factors, including its financial health, management decisions, competitive pressures, regulatory changes, and more.
Why should an investor hold a portfolio rather than invest in a single stock? ›
While it's tempting to believe a stock's market outperformance will continue, studies show that investments in a diversified portfolio can produce greater long-term wealth than investments in a concentrated position, with significantly less risk.
How much is too much of one stock? ›
While there is no set definition for a concentrated position, in general, a position is concentrated if it represents more than 5% to 10% of your portfolio's value. T. Rowe Price considers anything over 5% to be worth addressing, particularly when it involves company stock.
Is it good to invest all money in one stock? ›
If you invest too much in one company's stock, you are at great risk. If something happens to that company, a significant portion of your money could get wiped away.
Is 10% in one stock too much? ›
Once a holding exceeds 10%, however, it represents a greater risk that merits more immediate planning. “The risk of a concentrated position can be magnified by additional career risk in the case of company stock,” says Marty Allenbaugh, CFP®, CPWA®, a senior advisor with the T.
Is owning 100 stocks too many? ›
It's a good idea to own a few dozen stocks to maintain a diversified portfolio. If you load up on too many stocks, you might struggle to keep tabs on all of them. Buying ETFs can be a good way to diversify without adding too much work for yourself.
Is it better to buy individual stocks or index funds? ›
The biggest difference between investing in index funds and investing in stocks is risk. Individual stocks tend to be far more volatile than fund-based products, including index funds. This can mean a bigger chance for upside … but it also means considerably greater chance of loss.
